Jim Flaherty, Mark Carney step up to object to U.S. banking rule

Jim Flaherty, Canada’s federal finance minister, added his voice Monday to a chorus of complaints about a key plank of banking reform in the United States.

In a strongly worded letter to U.S. Treasury Secretary Timothy Geithner, Mr. Flaherty said the Volcker rule “could have material adverse effects on Canadian financial institutions and markets.”

The finance minister said he is “particularly concerned that the proposed rule could severely impact the liquidity of Canadian government debt markets and interfere with the risk management practices of banks in Canada.”

Bank of Canada Governor Mark Carney also stepped forward on the last day of a comment period on the controversial Volcker Rule, which has drawn sharp criticism from senior officials around the world.

In a letter to U.S. Federal Reserve Chairman Ben Bernanke, Mr. Carney proposed changes to the legislation that would exempt Canada from two of the most controversial elements including restrictions on trading government bonds. It would also leave risk assessment largely in the hands of this country’s banking regulator.

“I would urge you, in finalising these rules, to take into consideration the interconnectedness of the Canadian and U.S. financial systems, the potential for unintended impacts on the Canadian financial system and the possibility that the rule, as currently drafted, could reduce global financial resilience rather than increase it,” said Mr. Carney, who is also chairman of the global Financial Stability Board.

Related

The Volcker Rule is intended to curb proprietary trading, or the trading banks do on their own accounts and through sponsored relationships with hedge funds and private equity players. Its intended purpose is to remove some of the risky behaviour that led to the financial crisis of 2008.

But during an extended comment period on the proposed reform, the rule has drawn sharp criticism from jurisdictions including the United Kingdom, Japan and Canada.

Mr. Flaherty joined other nations in criticizing the “extra-territorial” reach of the Volcker Rule, which affects any bank with operations in the United States. He also joined in a chorus of complaints against an exemption granted to U.S. government debt that is not extended to bonds in other countries.

In voicing their objections to a central plank of the Dodd-Frank Wall Street Reform act, Mr. Carney and Mr. Flaherty have also joined ranks with Canada’s top banking regulator. Julie Dickson, head of the Office of the Superintendent of Financial Institutions, was the first Canadian official to voice concerns about the Volcker Rule when she wrote a letter to U.S. regulators last month.

Mr. Flaherty told Mr. Geithner that although the two countries have agreed on the need for reform, he is “concerned” the U.S. Volcker rule will create “conflicting requirements and unnecessary compliance burdens” that “will interfere with Canadian efforts to strengthen our domestic financial system.”

Moreover, he said, the rules as drafted go too far.

“I respect the right of U.S. regulators to extend any new restrictions on the activities of U.S. banks to activities carried out by Canadian banks in the United States,” Mr. Flaherty said in the letter. However, the Volcker rule “would also potentially apply to Canadian banks’ much larger Canadian operations, which pose no risk to U.S. taxpayers or U.S. financial stability.”

Mr. Flaherty also reiterated the concern of Canada’s largest banks that the restrictions of the Volcker Rule could have “serious unintended consequences for Canadian bank-sponsored mutual funds, hampering their ability to provide services to their Canadian clients.”

The federal finance minister also warned U.S. officials that the rules could also hurt business in the United States by forcing foreign banks to clear and settle trades in other jurisdictions, “or to avoid U.S. exchanges altogether.”

Representatives of the country’s top banks have travelled to Washington, D.C. in recent weeks to voice their concerns in person at meetings with U.S. Congressmen and regulatory officials.

Paul Volcker, the former chairman of the Federal Reserve for whom the reform is named, brushed off the objections in an opinion piece published by the Financial Times on Monday.

Mr. Volcker confessed “total surprise” at the international reaction, noting “irony” in the fact that Europe is proposing a bank transaction tax and the UK is planning to “ring fence” trading and investment banks with the same risk-mitigating intentions as the rule that bears his name.

“I regret that the effect, if not the intent, of much of the lobbying has been to add complications rather than to clarify the principles involved,” Mr. Volcker wrote, adding that, as with any new regulation, there will be opportunities later to deal with “unintended consequences.”

Industry players in Canada say it could be weeks or even months before they know whether the concerted lobbying effort to stave off undesirable elements of the Volcker Rule will pay off.

Mr. Flaherty has proven a key ally in the past, stepping up to oppose a tax crackdown by the U.S. Internal Revenue Service that threatened to penalize Americans living in Canada and dual Canadian-U.S. citizens who had not filed little-known documents with U.S. authorities.

Canada’s banks are also opposed to the tax crackdown under the Foreign Account Tax Compliance Act (FATCA), which will force them to put expensive systems in place to identify and track their American customers. Banks would also be required to turn documents directly over to the IRS.

‘We have repeatedly raised serious concerns directly with the U.S. about FATCA on behalf of Canadians and our financial institutions,” Mr. Flaherty said last week as the situation appeared to be easing for European banks.

The governments of five European countries including France, Germany and the United Kingdom struck a reciprocal agreement with U.S. authorities to work government-to-government on the tax issues.

Mr. Flaherty said he is “glad” the United States appears to be taking the concerns in other countries seriously.

The European agreement “appears to demonstrate an interest in greater joint government collaboration to address such concerns,” Mr. Flaherty said. “We will continue to work with our American counterparts towards an approach acceptable to both our countries.”